CITY HIGHLIGHT, JANUARY 2007

RALEIGH CITY HIGHLIGHTS
Bryan Everett, Jimmy Barnes, Kerry Saunders and Jim Scofield

Raleigh Industrial Market

The Triangle industrial market roared back to life in 2006 with the strongest demand witnessed since 1999. Through the third quarter, warehouse and flex tenants absorbed a combined 2.2 million square feet, sending vacancy down by 5 percent since the end of 2005. The current vacancy rate of 15.5 percent is the lowest seen since 2000 and represents an improvement by 10.4 percent since the height of the downturn in early 2004.

While the Triangle maintains the highest vacancy rate in the U.S., it is also the most rapidly improving market. Recent activity has been driven in large part by growth among companies tied to the region’s booming housing and construction industries. Demand was not isolated to the housing market, however, with sizeable flex and warehouse transactions completed by Fidelity Investments, Synthon Pharmaceuticals, Gtech and Parata Systems. The broadly based  activity bodes well for the Triangle, which was hard hit by its heavy dependence on the tech sector earlier in the decade. A more diverse tenant base will help to insulate the region during future downturns.

Nearly 70 percent of recent leasing activity occurred in the warehouse sector. Tenants absorbed 1.5 million square feet, sending vacancy down by 6.7 percent to 14.2 percent. The flex sector has experienced significant gains as well, but absorption has been more moderate at approximately 736,000 square feet, sending vacancy down by 2.8 percent to 17.2 percent. Flex space, often used as office space in the Triangle market, remains in competition with office space offered at discounted rates.

Triangle industrial landlords will enjoy improving leasing fundamentals throughout 2007. The flex sector in particular will see increased activity as the office market tightens and becomes more expensive. Industrial construction has been negligible in the last 5 years, and little is scheduled for completion in the next 12 months. This lack of new space, combined with the small size of the region’s industrial market (35 million square feet) will cause vacancy to continue its sharp decline in response to positive absorption.

Perhaps the greatest challenge the region will face in 2007 will be a lack of quality space for companies needing to grow or relocate. Speculative construction will be needed to assist in recruiting new and expanding industries, and developers will answer that call by late in the year. The cost of land and construction materials, combined with a tightening market, will lead asking rates to increase rapidly during the next 24 months, a trend that has already begun. Rates for warehouse/distribution space rose by 4 percent in 2006 alone. Because the Triangle is not a large-tenant market, new product will be designed to accommodate the 20,000- to 50,000-square-foot user.

With land prices soaring in the Research Triangle Park submarket, the region’s traditional industrial hub, expect developers to plant their stakes in emerging markets such as southern and eastern Wake County, where significantly lower land costs, proximity to Interstate 95 and an abundance of available labor make the areas key to watch for future development.

— Bryan Everett is associate vice president, industrial specialist, and Elizabeth Raiford is vice president, marketing & research, with the Raleigh, North Carolina-based Grubb & Ellis|Thomas Linderman Graham.

Raleigh Office Market

The recent headlines stating Fidelity Investments plans to add 2,000 jobs to the Triangle during the next 3 years, Credit Suisse’s announces 400 new jobs, and Novartis, a Swiss drug maker, plans to add 350 jobs by 2012, suggest the Raleigh/Durham market is as strong as ever. Despite a sluggish office market that peaked at 18 percent vacancy in 2003, year-end figures look to report a drop to approximately 13 percent, which shows positive absorption. Limited new construction during the past few years has helped this segment of the market start to recover, but developers have now hit the ground with approximately 1.8 million square feet underway.

Leading new construction activity is the Intersate 40 corridor with almost 800,000 square feet of new construction in six buildings. Two of these buildings are already pre-leased to Lenovo. In northwest Raleigh, Highwoods Properties recently completed its second GlenLake building, totaling 158,000 square feet. The north Raleigh area has 280,000 square feet under construction. Also Grubb Properties is constructing two other buildings inside the Beltline. In north Durham, approximately 160,000 square feet is under construction with an additional 72,000 square feet proposed.

The contenders for being the submarkets with the most proposed construction include the suburb of Cary with almost 1.5 million square feet and the I-40-RTP corridor with more than 1.8 million square feet.

Pressure from all the new construction will cause a rise in vacancy rates during the next several months. Though pre-leasing activity will take more than half of the space offline, it likely won’t be enough to keep vacancy levels down. The Triangle has not seen this much construction since 1999 when more than 3.5 million square feet were added. With a vacancy rate of 14 percent, the RTP submarket experienced one of the best recoveries, moving down from its 23 percent rate at year-end 2005.

The current reduced vacancy rate has led to a much bigger story — increased rental rates. Rental rates in some submarkets, such as Cary, North Raleigh and Downtown have increased as much as $2 to $3 per rentable square foot with an average rent for the Triangle at almost $19 per square foot.

During the last 24 months, the market improved to become more balanced between tenants and landlords. However, during the later part of 2006, the market showed signs of becoming more landlord driven as quoted rates are holding and tenant concessions are decreasing.
Strong job growth continues to be the big driver for the Triangle economy and is certainly what developers are watching. The North Carolina Employment Security Commission reported job growth from January through September at 4.8 percent. The national average is only 2.4 percent. According to some local economists, the Raleigh market could have its strongest year ever in job growth.

As construction on the Outer Loop continues, expect new pockets of opportunity to be opened in the future at the major interchanges. Also, expect a continued healthy commercial real estate market for the foreseeable future.

— Jimmy Barnes is president and Kerry Saunders is marketing & research director of Raleigh, North Carolina-based NAI Carolantic Realty, Inc.

Raleigh Multifamily Market

After a long period of low activity, apartment developers in the Triangle market that includes Raleigh, Durham and Chapel Hill, North Carolina, are once again starting to produce. The forces that put them into action: outstanding job growth, increased mortgage costs and cooling home sales.

According to data from the Employment Security Commission, more than 31,000 jobs were added to the Triangle market between September 2005 and September 2006, causing unemployment to fall to a preliminary 3.5 percent and contributing to an upswing in the number of area renters, particularly younger, highly educated working professionals. Combined with the rising cost of home ownership and financing, this upswing has given rise to the largest multifamily boom the Triangle has experienced in more than 5 years.

According to North Carolina-based Karnes Research Company, more multifamily permits were issued in the first 8 months of 2006 than between 2002 and 2005 combined. This equates to a total 4,257 multifamily units under construction in the Triangle as of September, 2006. A great many of these are Class A, resort-type projects that appeal to the young professional, which with its growing numbers is the target tenant for most local developers.

What all of this new construction will do to vacancy rates is yet to be seen. At present, however, the picture remains a good one. According to Karnes, as overall area apartment rents have increased to the tune of 2.2 percent in the last 12 months—equating to a rise of $17 for an average $777 per month—vacancy also has dropped from an average 8.7 percent to an average 8.3 percent. Even rents in South Wake—the market reporting the Triangle’s lowest rent at $657 average per month—is up 2.4 percent from last year.

The Cary Morrisville Apex submarket represents the highest monthly rent in the Triangle market, at an average $810 per month and representing a 3.5 percent increase during the last 12 months, according to Karnes. It also holds the area’s lowest vacancy rate of just 5.6 percent, down slightly from last year. Yet this is also one of the key submarkets raising questions as to whether supply side pressures will have an affect on vacancy rates.

In the Cary Morrisville Apex, more than 1,678 units are under construction and another 1,368 new units are proposed, representing the highest share of proposed units in the region. This includes 526 new units at Fairfield Residential’s Centerview Drive, 288 new units at McCrimmon Parkway by Trammell Crow Residential, 266 new units at Carrington Park by Davis Development and 288 new units with the Clairmont Apartments by Kotarides Developers, Inc.

Conversely, the downtown area may be lacking the multifamily development needed to meet demand. While many upscale condo conversions are completed or underway, and downtown renovation is encouraging new projects, most total just 20 and 30 units each. This is far from answering the call of young professionals seeking Class A, amenity-heavy properties like those being built in the Triangle’s boom submarkets.

As the Triangle moves into 2007, population dynamics will continue to drive construction as concerns about overbuilding loom. Still, this is certainly a place that people want to live and a place where jobs are abundant, and that offers hope that positive growth will overcome all.

— Jim Scofield, SIOR, is a senior investment advisor with the Raleigh, North Carolina office of Sperry Van Ness.


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